Markets & Finance

What's Fueling Energy Stocks

May 05, 2002

New energy in the U.S. economy will mean new energy for stocks in the oil-and-gas industry, says Tina J. Vital, who follows those companies for Standard & Poor's. With tensions continuing in the Middle East, she expects oil prices to remain in the mid-$20 range per barrel through next year.

The buys Vital lists in energy include Exxon Mobil (partly for its strength in natural gas), Nabors Industries, GlobalSantaFe, and Weatherford Intl., which supplies high-tech help to oil-field service companies.

These were some of the points Vital made in a chat presented Apr. 30 by BusinessWeek Online and Standard & Poor's on America Online. Edited excerpts from the chat follow. A complete transcript of this chat is available from BusinessWeek Online on AOL, keyword: BW Talk.

Q: Tina, it looks as if the market recovered somewhat today. How are the energy stocks doing?

A: I believe that while the energy sector has had a good run so far this year, being up 4.5% year to date, compared to the S&P 500, which is down 5%, there is still room to go. We believe the economy will continue to expand, which will boost the demand for energy...and increase volume growth for oil and gas. This will benefit the producers that supply these materials, as well as the oil-field service and drilling companies.

Q: ChevronTexaco (CVX) -- will it merge again, and what is your price target?

A: My price target is near $90 per share. I have a "hold" recommendation on the stock, as its return on capital employed (ROCE) is below that of its peers, and it's near our price target.

The good news is that refining and marketing margins in the U.S. have begun to rebound strongly in the last few weeks, rising over 90%. However, it's a bit too early to tell if this upward trend will stabilize in this volatile sector. We believe that there is very little downside risk and a lot of upside potential, but the large refining and marketing margins are unlikely, at any rate, to reach the levels we saw last year.

Q: I own some Conoco stock (COC) from DuPont's spin-off. It hasn't moved much for some time. What do you think of its long-term prospects?

A: I think that Conoco's proposed merger with Phillips Petroleum (P) is on track and should unlock the potential for growth within Conoco. While the merger offered no premium to Conoco shareholders, the new company should create a more balanced portfolio and create the potential for earnings growth and stability. Driving the merger is the greater strength in the upstream, with combined reserves of 8.7 billion barrels of oil equivalents (BOE). And downstream there are 19 refineries and the capacity for 6.2 million barrels per day.

Q: How has the Mideast turmoil affected energy stocks so far? Will there be $150-a-barrel oil?

A: The Middle East and Latin American turmoil has added a premium to our current West Texas Intermediate price, which is the North American benchmark for oil. The current WTI crude oil price of over $27 per barrel is likely to contain a $4 premium on these tensions. However, with no end in sight for tension in the Middle East, we are likely to live with this additional war premium on oil for a while. We see WTI oil prices staying in the mid-$20-per-barrel range through 2003.

Q: What is the outlook for Royal Dutch (RD)?

A: Royal Dutch Petroleum is one of the premier major oil companies in the world, with diversified assets geographically and a balanced business between the upstream and downstream. RD also offers one of the highest ROCEs in its peer group. It trades in line with its peers, which offers a good value to investors. However, I have a "hold" recommendation on RD, as it yielded a disappointing 74% reserves replacement ratio in 2001.

Q: What natural gas stocks do you recommend?

A: I recommend Exxon Mobil (XOM), which is the largest publicly traded oil company in the world and one of the largest natural gas producers in the U.S. Also, I recommend Nabors (NBR), which is the world's largest land-drilling contractor. Nabors has an equally weighted exposure to North America and the international market.

Q: Are XOM and NBR buys?

A: Yes. They both trade at a premium to peers. However, they offer strong return, a diversified business base, earnings stability, strong balance sheets, and excellent management. This should benefit investors going forward with a stabilized and growing earnings potential.

Q: Tina, do you have any buys besides Exxon Mobil and Nabors?

A: Yes, I do. I'm bullish on GlobalSantaFe (GSF), which was created in November, 2001, via a merger between Global Marine and Santa Fe Intl., which created the world's second-largest offshore drilling contractor. I see GSF as being well poised to benefit from a rebound in the global economy with its newly extended global reach (76% of its fleet is placed internationally), deepwater focus, and leverage with harsh-environment jackup rigs.

The last buy I have is Weatherford Intl. (WFT). It's a high-tech play in oil-field services. WFT has focused on acquiring technology to take advantage of certain trends that grow faster than the energy business cycle, as well as the need by producers of oil and gas to reduce their costs as reservoirs are aging worldwide and new oil and gas discoveries are diminishing in size.

With the shares of WFT trading in line with peers, its new technology and expanding market warrant premium evaluations.